Cancellation of Shares

Equity distribution is the backbone of every business. Private and public companies alike rely on share issuance to raise capital for the company. The more a company expands, the higher the number of shares issued. It is usually an upward curve. However, sometimes a business might decide to retract this process and consider a cancellation of shares. In this article, we focus on the nuances of this concept. Why should a thriving business ever consider cancelling issued shares? Let’s explore.

Cancellation of Shares

In normal circumstances, a company decides to cancel shares only when the business is winding up and all shares need to be pulled out of the market and accrued profits distributed back to shareholders. This is a common scenario. But in some cases, cancellation of shares is adopted as a strategy as part of a business process. It could be instrumental to a new investment or an overall restructuring. In this section, we discuss this in detail.

What is a share cancellation in a company?

Cancellation of shares is the process by which a company cancels either already issued shares or the unissued ones. Normally, the Corporations Act in a bid to protect the interests of the shareholder forbids a company from reducing its shareholder funds unless it is shutting down the business. But under special circumstances, this is allowed only when the company management has assured that they have done everything in their capacity to avoid such a scenario, have been fair to all stakeholders, and have disclosed all details of their assets.

The moment a company declares a cancellation of shares, all issued share certificates become null and void with immediate effect. This creates a deep impact on the financial assets of all stakeholders. Thus such a decision cannot be ad-hoc. Once a company decides to proceed with cancelling a portion of its shares, these wheels are set in motion:

• Authorizations and notifications: A company needs the right authorizations from regulatory bodies to proceed with the cancellation of shares. Once these bodies approve the move, all stakeholders are notified and requested consent. Usually, a third-party transfer agent is entrusted with the responsibility of coordinating these exchanges.
• Documentation: Once all stakeholders have agreed and the necessary approvals are in place, the transfer agent proceeds with the share certificate cancellation. Later sections are dedicated to understanding how this works. But at this moment, it is important to know that transfer agents ensure all physical and electronic databases are updated with details of the cancelled share certificates.

Ever wondered what happens to cancelled shares?

Let’s consider an example. Imagine a successful company one day realizes that over the years amid their massive expansion plans, their capital structure has become very complicated. They have issued multiple classes of shares, distributed a large number of shares as employee benefits, and employed equity-based loan instruments. It is about time they re-structured their equity-based liabilities. In this scenario, the company opts for the cancellation of shares. Usually, three common things happen here:

• Cancelled shares are reclassified under a different category
• The company opts to buy-back cancelled shares
• Shareholders decide to ‘gift’ the cancelled shares back to the company without any payment in exchange.

Common situations for share cancellation in a company

The most common actions taken by a company on the cancellation of shares are share capital reduction, share buy-backs, share forfeiture, and redeemable preferred shares. Let’s explore these one at a time.

Share capital reduction

Cancellation of shares as part of share capital reduction involves the approval of all shareholders. It is a mandatory cancellation of shares and sometimes involves payment by the company. However, a company can proceed with this option only if:

• Approved by shareholders
• Does not overreach shareholder preferences
• Does not under any circumstances indicate or undermine the company’s ability to pay shareholders

Share capital reduction can either be equal or selective. In the case of equal share capital reduction, there is an equal reduction of shares on the same terms for all shareholders. One rule applies to all. Meanwhile, in case of a selective share capital reduction, not all shareholders are required to part with their shares. Only those holding a particular class or category of shares are required to approve and pass a resolution in support of it for this process to complete.

Share buy-backs

As the term implies, this is a straightforward equity buyback by companies. Similar to share capital reduction, this effect of cancellation of shares is of two types: equal and selective. In the case of equal share buy-backs, all shareholders are extended the same pricing offer for the same share percentages. However, shareholders are not obliged to sell. Meanwhile, with selective share buybacks, offers are extended only to select shareholders. But all shareholders are required to approve this move even if they are not participating.

Share forfeiture

In some situations, owing to non-compliance with set terms and conditions, a certain percentage of shares are forfeited. The company ultimately cancels these shares. However, the relevant shareholder approvals are mandatory.

Redeemable preference shares

Redeemable preference shares are a category of preference shares. Conditions of redemption are set out while issuing these shares. These terms protect the interest of shareholders so that the issuing company cannot all of a sudden decide to cancel shares and redeem these. Shareholders are paid in full as the current market rate of share prices. Since the terms of redemption are already set out in the terms of the contract, shareholder approvals are not required.

In all these cases, the underlying factor remains that on cancellation of shares, all documents related to the cancellation must be updated by both parties. The most important of these is attending to share certificates. The next section is all about the cancellation of share certificates.

Cancellation of Share Certificate

A transfer agent is an important link between the share trading company and its investors. All the relevant documents are maintained by this agency. Thus, transfer agents are the ones entrusted with the responsibility to cancel a share certificate.

What is a share certificate?

A share certificate is a legal document that authenticates share transactions between a company and the shareholder. It is also known as a stock certificate. This document allows a shareholder to assert a claim over their equity holdings and their accompanying rights over company management. Details included in a share certificate are:

• Date of issuance
• CIN or Corporate Identification Number
• Name of the company
• Registration number of company
• Names of shareholders and the company
• Address and contacts of both parties
• Number of shares owned
• Class of shares owned
• Amount paid on shares

Historically paper certificates were issued to shareholders and this helped to keep track of all dividends. Every dividend payout was physically endorsed at the back of the certificate. This was the case with all private shareholdings. However, the public sector had long back moved away from physical share certificates to the DRS system that allowed digital record keeping of all share transactions.

How to cancel share certificates of a company?

The cancellation of digital share certificates is very simple. It is just a matter of updating a couple of relevant details. However, assuming that many historical shareholders are still holding on to old share certificates, here is the process to cancel share certificates:

• Locate the share certificate in question
• On the back of the certificate, write “VOID” in capital letters. It is advised not to attempt this on your own. Better to involve a share broker
• Mention date of cancellation
• Make note of the ‘transaction date’. This is usually found on the top right corner of the stock certificate
• Derive the age of the cancelled certificate and mention that. For eg, certificate number X was cancelled after 18 months of issuance.

Agreement to Cancel Shares

Similar to share certificates that authenticate share issuance, share cancel agreements certify cancellations. This is a legal document as well. Since shareholdings are directly related to corporate governance both issuing and cancelling shares have legal implications on the company as well as the investor. How a business handles this process contributes a lot to its reputation in the market. Here is a typical format of share cancel agreement issued by the SEC. It is best to work with legal counsel while handling these.

Looking to Cancel Share Certificates in your Company?

Cancellation of shares involves a meticulous process of tracking and updating the relevant records. It is cumbersome in the case of physical share certificates and that much easier if the records were digitized.

Eqvista is a leading software that provides a range of services related to issuing and managing company equity. Electronic share certificates and personalized logins for every shareholder is one of our defining features. To know more about our services check out these resources. For further details, reach us today!